HP in Giant Services Play to Buy EDS

In a move that would bolster its services sector and further strengthen its profits, HP is reportedly planning to buy Electronic Data Systems (EDS).

HP declined comment. In a press release, HP confirmed it is “engaged in advanced discussions” with EDS about “a possible business combination involving the two companies” and warned that this did not mean a deal would be finalized. It also said HP would not comment further until either a deal is reached or talks are ended.

The deal, which could be announced as soon as Tuesday, would make HP (NYSE:HPQ) a powerhouse in the computer services industry and position it better to take on rival IBM (NYSE:IBM). A report in Reuters said if the deal goes through, HP would pay $12 billion to $13 billion for EDS.

The acquisition would also be HP’s biggest since its $19 billion buy of Compaq in 2002. Shares of EDS rose nearly 28 percent, taking its market value to about $12 billion. Some reports said the deal would be announced by the end of the day Tuesday.

The addition of EDS might also leave Sun Microsystems (NASDAQ:JAVA) and Dell Computer (NASDAQ:DELL) flat-footed, because they tap EDS (EDS) for customer service.

The services sector is relatively stable and offers much higher margins than the commodity PCs and printers that are a huge source of HP’s revenue.

HP has been searching for acquisitions to help it boost its service revenues. In 2000, it terminated talks under then-CEO Carly Fiorina to buy the consulting business of PricewaterhouseCoopers (PWC) for about $18 billion. Instead, HP formed a marketing alliance with PWC to sell supply chain software and create an Aviation Solution Center through which the two would offer business solutions for aviation companies.

Ironically, two years later, IBM paid $3.5 billion in cash and stock for the global management consulting and technology services unit of PWC.

The news of the impending deal drove EDS shares nearly 28 percent higher to $24.13 on the New York Stock Exchange, and pushed HP shares down by nearly five percent to $46.74.

If the deal goes through, it will give EDS a boost — the company isn’t exactly doing well, having reported a 62 percent drop in first-quarter profits. And that was better than Wall Street had expected.

Further, it faces intense competition from IBM, Accenture (NYSE:ACN) and Computer Sciences Corp. (NYSE:CSC), as well as from East Indian rivals Infosys Technologies (NASDAQ:INFY), Tata Consultancy Services (NSE:TCS.NS), and Cognizant Technology Solutions (NASDAQ:CTSH).

Over the past year, EDS’ shares had fallen more than 32 percent in value, while HP’s had risen only 3.5 percent.

If the deal goes through, it will be the second, and largest purchase HP CEO Mark Hurd has made during his tenure: His previous high was the $14.5 billion acquisition of Mercury Interactive Corp.

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